What Pepsi Can Teach Us About Soft (Drink) Power In Russia

Mar 10, 2014
Originally published on March 10, 2014 4:09 pm

The United States has threatened economic sanctions against Moscow, but America is light on financial leverage in Russia: The country represents less than 1 percent of U.S. trade, and few major U.S. companies have significant investments there.

But one company with a long history in Russia is Pepsi.

So how did the American soft drink giant get its foot in the door to build a major market in Russia?

This story of how Pepsi came to be sold widely in Russia could give us some insight into how the two counties do or don't do business with each other. The relationship dates back to the Soviet era.

During the Cold War, then-Vice President Richard Nixon visited Soviet Russia to meet with Premier Nikita Khrushchev, which produced some memorable moments. The two men stood in front of a microphone and sparred, with the help of interpreters, in a televised session now known as the Kitchen Debate. The 1959 debate, which you can watch on YouTube, is all kinds of historical, nerdy awesomeness.

"You plan to outstrip us, particularly in the production of consumer goods. If this competition is to do the best for both of our peoples and for people everywhere, there must be a free exchange of ideas," Nixon said as Khrushchev began to speak over him. "You never concede anything."

One thing Russia didn't have on us was brown, fizzy, sugary, delicious drinks. At that debate, Nixon and Khrushchev shared a Pepsi.

At the time, this shared drink gave Donald Kendall a bright idea. Kendall, who was a buddy of Nixon's, was the head of Pepsi's international operations at the time.

"[Kendall] went to Russia in 1959 and struck up a good relationship with Nikita Khrushchev," recounts Anders Aslund with the Peterson Institute for International Economics.

Later, the Soviet government itself began bottling Pepsi, but it wasn't the drink we know.

"Pepsi was perceived by the population as a Soviet product, and Soviet products were truly bad," Aslund says. "While Pepsi was reasonably good, it was not as good as Western Pepsi."

Good or bad, Pepsi was the only option.

Then the Berlin Wall fell. When the Soviet Union closed, a form of free enterprise opened. In the 1990s, there was a boom in the U.S., and American companies were looking to grow.

During this time, Pepsi was getting its butt kicked by Coca-Cola all over the world, says Ali Dibadj, a senior analyst with equity research firm Sanford Bernstein who studies packaged goods such as soda and chips. Dibadj says Pepsi had one key element going for it: The company knew a lot about Russia.

"Pepsi had to find a place to grow that was the path of least resistance, and arguably built on the history, since 1959, and the lower penetration by The Coca-Cola Company. Russia was the closest-to-home option, and it wasn't that close to home," Dibadj says.

It worked. Russia is now Pepsi's second-largest market behind the U.S., accounting for roughly 8 percent of sales.

So if Pepsi could become a dominant consumer force in Russia, then why hasn't everyone followed suit?

Well, companies such as Ford, Nike, McDonald's, Boeing and John Deere do have investments in the country, but they don't rely on the Russian market like Pepsi does. The reason, Dibadj says, is that Russia is unpredictable, and so are its consumers.

"The consumer has a history — given communism, given what they've been though — to, at the first sign of fear, shift very quickly to either different pack sizes [or] different brands. And [Russian consumers] have historically been used to lower-quality brands," Dibadj says.

At the first sign of trouble, Russian consumers go from drinking soda to tap water. Not only that, it's really hard for companies to get into Russia. With such a large country, you have to build giant distribution networks, and there's a lot of red tape.

"We don't have a lot of economic leverage," Dibadj says. "There's not a lot of stuff that Russians buy from us, and we don't buy that much stuff from Russia."

It's the age-old chicken and egg problem, says Amit Khandelwal, who teaches at Columbia University's Business School. American businesses, he says, are afraid to invest in Russia because it's risky; and it might be less risky if there were more of a U.S. corporate presence there.

"The U.S. won't have the potential threat of sanctions if there is no pain on both sides," Khandelwal says. "There is no pain on both sides precisely because no business has found it attractive enough to substantially grow their operations in Russia."

In other words, in order for the U.S. to have more soft power in Russia, the U.S. will have to sell that country more than soft drinks.

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The U.S. doesn't have a lot of financial leverage in Russia. It accounts for less than one percent of U.S. trade. But there are a few major companies with significant investments in the country. One company with a long history in Russia is Pepsi. It's a relationship that goes back to the Soviet era. And as NPR's Sonari Glinton reports, it's one that could provide some insight into how the U.S. and Russia do and don't business with each other.

SONARI GLINTON, BYLINE: One of the more memorable moments of the Cold War was when then Vice President Richard Nixon visited Soviet Russia to meet with Premier Nikita Khrushchev. Their televised sparing session has become known as the kitchen debate, and you can watch it on YouTube, and it's all kinds of historical nerdy awesome.

(SOUNDBITE OF YOUTUBE VIDEO)

VICE PRESIDENT RICHARD NIXON: You plan to outstrip us and - particularly in the production of consumer goods. If this competition is to do the best for both of our peoples and for people everywhere, there must be a free exchange of ideas. For both of us, the benefit...

NIKITA KHRUSHCHEV: You (unintelligible)

NIXON: You see, you never concede anything.

GLINTON: One thing Russia didn't have on us was brown, fizzy, sugary delicious liquids. At that debate, Nixon and Khrushchev shared a Pepsi. And around that time, Pepsi's international head, Donald Kendall, who was a buddy of Nixon's, got a bright idea. I'm going to let Anders Aslund with the Peterson Institute for International Economics pick it up from here.

ANDERS ASLUND: He went to Russia in 1959 and struck up a good relationship with Nikita Khrushchev, the then leader of the Soviet Union. And since that time, Pepsi has been producing Pepsi cola in Russia.

GLINTON: So the Soviet government itself began bottling Pepsi.

ASLUND: Pepsi was perceived by the population as a Soviet product, and Soviet products were truly bad. And while Pepsi was reasonably good, it was not as good as Western Pepsi.

GLINTON: Now, good or bad, Pepsi was it. There was no cola war because Pepsi was essentially the only choice. Then the Berlin Wall fell and the Soviet Union closed and a form of free enterprise opened. So in the '90s, there was boom here in the U.S. and companies were looking to grow.

Ali Dibadj is a senior analyst with Sanford Bernstein, an equity research firm. He studies packaged goods - you know, soda, chips, stuff like that. He says all of over the world, Pepsi was getting its butt kicked by Coca-Cola. But Pepsi knew a lot about Russia.

Pepsi had to find a place to grow that was the path of least resistance and arguably built on the history since 1959 and the lower penetration by Coca-Cola, you know, Russia was the closest-to-home option, and it wasn't that close to home anyway.

And it worked. Russia is Pepsi's number two market behind the U.S. It accounts for about 8 percent of sales. Here's the thing: If Pepsi can do it, become a dominant consumer force, why doesn't everyone? Well, the current headlines offer a clue. Russia is unpredictable and, Dibadj says, so are Russian consumers.

ALI DIBADJ: The consumer has a history, given communism, given what they've been through, to, at the first sign of fear, shift very quickly to either different pack sizes, different brands and has historically been used to lower-quality brands.

GLINTON: So Russians consumers, at the first sign of trouble, are more likely to do go from, say, drinking soda to tap water. Not only that, it's really hard for companies to get into Russia. There's the red tape, and Russia is a big country so you have to have giant distribution networks. And the barriers are just set really, really high.

AMIT KHANDELWAL: We don't have a lot of economic leverage. We don't trade a lot with them. There's not a lot of stuff that Russians buy from us and we don't buy that much stuff from Russia.

GLINTON: Amit Khandelwal teaches at Columbia's Business School. He says it's the age-old chicken and egg problem. U.S. businesses are afraid to invest in Russia because, well, it's risky. And it might be less risky if there was more of a U.S. corporate presence there.

KHANDELWAL: The U.S. won't have the potential threat of sanctions if there is no pain on both sides. And there is no pain on both sides precisely because no business has found it attractive enough to substantially grow their operations in Russia.

GLINTON: Khandelwal says in order for the U.S. to have more soft power in Russia, we'll have to sell them a lot more than soft drinks. Sonari Glinton, NPR News. Transcript provided by NPR, Copyright NPR.